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Introduction to Saving for College

Mark Kantrowitz

August 19, 2009

6. Save as Much as You Can.

It is cheaper to save than to borrow. Saving $250 a month at 6.8%
interest for 10 years will yield a total of $43,041. Borrowing the
same amount at 6.8% interest with a 10-year repayment term would
require payments of $495 a month, almost twice as much. When you save,
you get the interest, but when you borrow, you pay the interest.

7. Save with a 529 College Savings Plan.

Section 529 College Savings Plans provide a tax-advantaged way of
saving for college, similar in concept to a 401(k) or IRA. The
earnings in a 529 plan are tax deferred, and distributions are tax
free if used to pay for qualified higher eduation expenses. The
parent, as the account owner, controls the 529 plan account, not the
child. The money in a 529 college savings plan will have a minimal
impact on your child’s eligibility for need-based financial aid.

Consider your state’s 529 plan if
your state offers a state income tax deduction for contributions to
the state’s plan. Also consider the 529 plans in the states that have
the lowest fees (less than 1%). These include plans by Vanguard and
TIAA-CREF.

Use direct sold plans, not advisor sold plans, as the advisor sold
plans add on commissions and fees that can wipe out the tax
savings. The advisor may steer you toward plans that maximize his
commissions and which aren’t in your best interest. You don’t need an
advisor to tell you how to invest, as you don’t need to make many
choices.

8. Use an Age-Based Asset Allocation.

An age-based asset allocation fund starts off with an aggressive mix
of investments (e.g., mostly stocks) and gradually switches to a more
conservative mix of investments (e.g., mostly bonds, CDs and money
market accounts) as college approaches. When your child is about to
enroll in college, no more than 20% of the college savings should be
in stocks. While it may be tempting to invest everything in an
all-stock fund because of the higher returns on investment, keep in
mind that the stock market will drop significantly at least once a
decade. When your child is young, you have a lot of time to recover
from losses (and the dollar amount of the losses will be small). But
when college is around the corner, you need to protect more of the
savings from dramatic losses. Two-thirds of families use an age-based
asset allocation.

9. It is Never Too Late to Start Saving for College.

Even if college is just a year or two away, the short-term tax
benefits can be worthwhile. Some state 529 college savings plans offer
a deduction or tax credit on your state income taxes, which is like
getting a discount on college costs. Every dollar you save is a dollar
less you’ll need to borrow.

10. Maximize Your Savings with a Rebate Program.

There are several
college savings
rebate programs like Upromise that let you earn rebates from your
purchases that are automatically contributed into your college savings
plan. Even if you don’t change your purchasing habits you can still
earn hundreds or even thousands of dollars of rebates that will help
your college savings grow.